Anatomy of a Car Payment

Recently, we covered the best time to buy cars. While there are times throughout the year where you can find a better deal on cars, one of the most extended periods of great car deals is from October through the start of the new year. Whether you’ve recently taken advantage of these deals, are looking to take advantage of the last of the peak opportunities, or are simply considering your auto options, the cost of your car payment is vitally important to your finances.

In order to fully understand your car payment, you need to understand all the different parts of it and how they influence your total cost. In this article, we’ll break down how your monthly car payments are calculated and offer tips on how you can best manage them.

What are the Components of a Car Payment?

1. Principal

The principal is the amount of money you borrow to purchase the car. For example, if you buy a car priced at $35,000, and you put $5,000 as a down payment, the principal of your loan is $30,000.

2. Interest

Interest is the cost of borrowing money from a lender. It’s calculated as a percentage of the principal amount and is added to your monthly car payment. The interest rate on your loan will depend on a handful of factors like your credit score, the length of the loan term and the current market conditions.

At the beginning of your loan, more of your monthly payment will go towards interest than it will during the later stages of your loan. As the part of your monthly payment going to interest decreases, the part going to your principal will increase.

3. Loan Term

While this is not technically a part of the loan, you’ll likely see this referenced on your monthly statement or loan bill. The loan term is the length of time you have for repaying the total loan, typically expressed in months. USALLIANCE offers auto loans that range from 36 to 84 months, or 3 to 7 years. The longer the term is, the lower the monthly payments will be, but the more interest you’ll pay over the life of the loan. You can always shorten the length of the loan by paying more than you need to each month or investing additional funds into paying off the loan. However, make sure you know the terms of your loan – some financial institutions will actually charge a penalty or fee if your loan is paid off early.

4. Taxes and Fees

You may have the option to roll additional costs into your loan, which then become part of your monthly payment. If you choose to finance taxes, registration fees, or other upfront costs of the loan, these will be included in your loan amount and will increase your monthly payment. These costs are not itemized separately, they’ll be incorporated directly into the principal amount.

5. Add-ons

Optional add-ons like extended warranties, gap insurance, and other products you choose to finance will also be included in your loan principal, thus increasing your monthly payment. The individual add-ons may not seem like much, but together they can increase your monthly payments and cause you to pay a significant amount more in interest over the life of the loan.

Additional Costs of Car Ownership

While not included in your monthly loan payment, these expenses are an inherent part of owning a car. Since they cannot be avoided, they are an important consideration for you to take into account:

• Insurance
  Lenders typically require you to carry comprehensive and collision coverage as part of your financing agreement, ensuring the car is protected if in an accident.
• Maintenance
  Your car will need regular maintenance and upkeep, which you’ll need to budget for.
• Fuel or Electricity
  Of course, you won’t be able to drive a car without gas (or springing for electricity, if you opt for an electric vehicle or hybrid) to power it.

How are Car Payments Calculated?

To calculate your monthly payment, the lender will take the principal of the loan along with any add-on costs, and the interest amount due, and divide this number by the months in your loan term. This is the amount you’ll need to pay each month.

Managing Your Car Payment

Managing your car payment well requires careful planning and budgeting. Here are a few tips to help you stay on top of your payments and minimize the overall cost of your car loan:

• Compare offers from multiple lenders to find the best interest rates and loan terms.
  The difference between what one lender offers and another could be thousands of dollars over the life of the loan, but you won’t know unless you compare multiple choices!
• If possible, make a larger down payment to reduce the amount you need to finance.
  Of course, that’s money coming directly out of your pocket right now that won’t be coming back, so it’s important to make sure that you can afford this option. However, whatever you pay in the downpayment is not subject to interest, so it can save you money over time if you can handle the initial cost of paying more.
• Choose a shorter loan term.
  This tip is simple: the less time the loan is for, the less interest you will pay. It’s all about reaching the right balance for you of the up-front cost and monthly payments you can handle with the amount you’ll save by limiting the term of the loan as much as possible. It’s different for everyone and you need to take your personal situation into account!

For many, a car is a necessity – there are jobs to go to, kids to drop off at school, and road trips to take! A car loan is equally necessary for most who cannot afford to pay the entire cost of a car all at once, so it’s hugely important to understand the breakdown of your monthly payment. Use the information and tips above to find the right car loan for you at the right price!